Question 1: Special order
| Sales volume in units | 90 |
| Revenue | $8,100 |
| Variable costs | $1,800 |
| Contribution margin | $6,300 |
| Fixed costs | $1,600 |
| Profit | $4,700 |
Special order: A client wants to buy 20 units at a discounted price of $30 per unit. This is a one-time deal (i.e., a short-term decision). You have enough spare capacity to fulfill this special order without cutting back on your regular sales.
a) Use the gross approach to decide whether you should take the special order:
| status quo (no special order) | total amounts after adding the special order | |
| Revenue | $8,100 |  |
| Variable costs | $1,800 | |
| Contribution margin | $6,300 | |
| Fixed costs | $1,600 | |
| Profit | $4,700 | |
b) Use the incremental approach to decide whether you should take the special order.
| how much each amount changes after adding the special order | |
| Incremental revenue | |
| Incremental variable costs | |
| Incremental contribution margin | |
| Incremental fixed costs | |
| Incremental profit | |
Question 2: Should you reduce the price or increase advertising?
The selling price is $20/unit, variable costs are $10/unit, and fixed costs are $3,000 in total. Sales volume decreased to 200 units because of a recession.
You are considering two options to stimulate sales:
(1) Reduce the price to $18/unit. This will increase sales volume by 20%.
(2) Buy additional advertising for $300 and keep the original price. This will increase sales volume by 20%.
Use the gross approach to decide whether you should do nothing (the status quo), reduce the price, or increase advertising.
| status quo | (1) reduce the price | (2) increase advertising | |
| Volume in units | |||
| Revenue | $ | $ | $ |
| Variable costs | $ | $ | $ |
| Contribution margin | $ | $ | $ |
| Fixed costs | $ | $ | $ |
| Profit* | $ | $ | $ |
* enter losses as a negative number: e.g., a loss of $500 should be entered as -500, not as (500) or ($500).
What should you do?
Question 3: Make versus buy
You make refrigerators. Currently, you manufacture compressors for your refrigerators in-house. An outside supplier has offered to sell you equivalent compressors at a wholesale price of $95 per unit. You need 1,000 compressors per month. The internal production costs per compressor are as follows:
| cost per unit | |
| direct materials | $40 |
| direct labor | $40 |
| variable overhead | $10 |
| fixed overhead | $20 |
| total | $110 |
If you outsource the production of compressors (the buy option) in the short term, how will this choice affect your costs and profit?
First, compute variable costs under MAKE versus BUY:
| MAKE | BUY | |
| unit VC | ||
| total VC |
If you outsource (BUY), the incremental revenue, costs, and profit are:
| how much each amount changes if you outsource | |
| Incremental revenue | |
| Incremental VC | |
| Incremental CM | |
| Incremental FC | |
| Incremental profit |
Enter negative amounts with a minus sign, i.e., -1,000 not ($1,000).
Should you outsource?
Question 4: Choosing the product mix when capacity is in short supply
You have three product lines: Basic, Premium, and Supreme. You have limited capacity of 300 machine hours. You face excess demand for all three products (assume unlimited demand for simplicity).
| Basic | Premium | Supreme | |
| Price per unit | $3,000 | $7,000 | $10,000 |
| Unit variable cost | $1,000 | $2,000 | $3,000 |
| Machine hours per unit | 1 | 2 | 4 |
Compute the CM per unit of capacity (i.e, per machine-hour) for each product:
Basic = $ per hour
Premium = $ per hour
Supreme = $ per hour
Which product(s) should you make?
How many units of each product should you make? (enter 0 for products that you do not want to make)
Basic = units
Premium = units
Supreme = units
Hint if you get stuck: You have 300 machine hours.
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